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Fortinet: An Attractive Acquisition Target Amid Industry Consolidation

 November 28, 2012 12:44 PM

(By Mani) Fortinet, Inc.(NASDAQ: FTNT) is a potential acquisition target as it is a pure-play small-cap company operating in a market seeing massive consolidation.

Based in Sunnyvale, California, Fortinet provides network security appliances and unified threat-management (UTM) network security solutions to enterprises, service providers, and government entities worldwide.

Fortinet sells its security solutions to various end-customers and industries, including Telcos, government, financial services, retail, education, technology, and healthcare through its channel partners.

[Related -Fortinet, Inc. (FTNT), Palo Alto Networks, Inc. (PANW) Could Be Potential Takeover Targets After Sourcefire Deal]

In 2011, it generated over $433.6 million in sales and reported earnings of 45 cents a share. For 2012, Wall Street expects Fortinet to earn 51 cents a share on revenue of $526.71 million, according to analysts polled by Thomson Reuters.

"The network security space remains a highly competitive market, but even after another round of consolidation Fortinet remains the market share leader in the UTM space," Oppenheimer analyst Shaul Eyal said in a client note.

Many acquisitions in the software space are typically deemed "tuck-in" acquisitions made to fill in a hole or a weak spot in the product portfolio of the acquirer.

Fortinet's strength in UTM would be complementary to existing product portfolios of active acquirers such as International Business Machines (NYSE:IBM), Dell, Inc. (NASDAQ:DELL), Cisco Systems, Inc. (NASDAQ;CSCO), and others.

[Related -Futures Up On China Moves; Sourcefire, Inc. (FIRE) Surges On Cisco Systems, Inc. Buyout]

"In our view, being a significant market leader in its target UTM market makes FTNT an attractive potential acquisition candidate for a large acquirer looking to expand its product portfolio and participate in FTNT's target market," Eyal wrote.

Moreover, Fortinet's founders Ken Xie (CEO) and Michael Xie (CTO) has M&A track record, including the sale of Netscreen to Juniper Networks, Inc. (NYSE:JNPR) in 2004 for $4 billion in stock.

"We believe FTNT could become a second Netscreen," Eyal noted.

In addition, Fortinet is exposed to strong secular growth drivers within the network security market. The company is focused on high-growth markets and is expected to maintain its record of solid growth in cash flow and EPS.

In the third quarter, non-GAAP operating cash flow was $41.5 million, bringing the trailing 12-month total to $156.1 million. In addition, the company's balance sheet remains solid with cash and short-term investments totaling $505.7 million and no debt.

Fortinet is a market share leader, with 16.8 percent share of the unified threat appliances market, which market research firm IDC estimates to grow to $4.3 billion by 2016.

Fortinet has superior technology in the unified threat management (UTM) space—the fastest growing market in the network security landscape—and a relatively predictable business model with more than half of revenue recurring in nature.

"As the network security space continues to converge, security "platforms" represent a significant longer term market opportunity, though the pace of adoption remains uncertain. As a leading provider of UTM solutions, FTNT is poised to benefit from solid long-term growth drivers," Eyal added.

Fortinet shares, which have dropped 18 percent in the last one year, are trading 37.25 times its 2012 earnings consensus estimate and 31.14 its 2013 estimate. It has an enterprise value of about $2.7 billion and market cap of over $3 billion. During the past 52-weeks, shares are trading between $17.53 and $28.82.



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